IQT Insights: The National Microelectronics Challenge Growing U.S. concerns about national microelectronics competitiveness and supply chain security have prompted proposals for government action.1 This policy brief explains IQT’s view that innovation is the key to meeting both competitiveness and security challenges. The paper argues that the nation should address impediments to commercial success in the specific microelectronics technologies that matter most for U.S. security and competitiveness. In so doing, government can better align private sector incentives with the national interest. IQT recognizes the value of boosting federal research and development and building U.S.-based chip manufacturing “The nation must facilities. In IQT’s assessment, however, it is equally important to support priority technologies (e.g., tooling, address impediments packaging) with commercialization support. Government to commercial could support the creation of “sandboxes” to help transition federally funded research from lab to market. Additionally, success in specific government could invest in emerging companies where the microelectronics private sector is not funding specific key technologies at a level commensurate with the national interest. This policy technologies that brief, written for the non-expert, provides background and matter most.” analysis (Section I) and recommendations (Section II). IQT is a non-profit strategic investor that helps deliver emerging technologies to multiple U.S. national security agencies. This analysis flows from our role as one of the world’s most prolific investors operating at the intersection of national security, technology trends, and the private sector. Section I. Background and Analysis Microelectronics are small electronic components (e.g., transistors, inductors, diodes, capacitors) or complex systems (e.g., microprocessors, AI accelerators) which have become vital for powering everything from smart phones to the most advanced military systems. They provide the building blocks of advanced technologies such as artificial intelligence (AI) and biotechnology. The following section provides a brief overview of the evolution of the industry, technology trends, security considerations, and private sector investment gaps related to microelectronics production and supply chain security. Industry Evolution The United States pioneered semiconductor research since the early 20th century, but it was not until its widespread use in radar, radios, and later as the heart of computer systems, did semiconductors become nearly synonymous with microelectronics. U.S. firms led the rapidly growing commercial market and dominated it globally for decades. As the role of semiconductors grew, the industry evolved. Today the microelectronics production process – from materials and design to manufacturing and packaging – is disaggregated and highly globalized. A single chip may traverse 70 countries before its production is complete. 2 The United States still leads the global industry in several key areas, such as the design of chips and specialized manufacturing tooling, that represent the highest end of the value chain and 1 The FY21 National Defense Authorization Act includes several new microelectronics initiatives, see https://fcw.com/articles/2021/01/01/ndaa-veto-overturned-senate.aspx. The National Security Commission on Artificial Intelligence 2020 Interim Report and Third Quarter Recommendations also offer recommendations on microelectronics, see https://drive.google.com/file/d/1jg9YlNagGI_0rid-HXY-fvJOAejlFIiy/view. 2 S. Alam, T. Chu, S. Lohokare, S. Saito, M. Baker (2020). Globality and Complexity of the Semiconductor Ecosystem. Accenture and GSA. <https://www.accenture.com/_acnmedia/PDF-119/Accenture-Globality-Semiconductor-Industry.pdf> © 2021 In-Q-Tel, Inc. Page | 1 IQT Insights: The National Microelectronics Challenge annual markets of $419B3 and $100B4, respectively. The U.S. lead in design has proved critical in keeping U.S. innovation at the cutting edge of technology development. American companies’ strength in tooling equipment also has helped constrain the ability of potential adversaries to develop more advanced manufacturing facilities. However, many other countries’ firms are increasingly innovative and important in areas of U.S. strength. Moreover, new aspects of microelectronics on which the United States has not previously focused its research or commercial activities, such as packaging and materials, will likely assume greater significance as the industry continues to evolve. To date, the most significant change to the microelectronics ecosystem is the migration of manufacturing to Asia. In 1990, the United States and Europe produced three-quarters of global capacity.5 Relative labor costs, differing environmental sensitivities, and government willingness to help fund large capital investment helped shift much of this manufacturing East. A large Asian network of suppliers and services, including fabrication (production of chips), packaging, assembly, and testing has developed. Fabrication is a particular U.S. concern. Korea and Taiwan host the dominant “merchant fabrication” facilities, with capacity largely reserved for big chip companies. This poses challenges for small design companies, design startups, and chip customers that require only small batches of testing or production. For U.S. companies, overseas manufacturing introduces additional friction as well as security concerns, including the risk of compromising their intellectual property. U.S.-based company Intel has maintained fabrication facilities dedicated for their own chip production. However, the majority of U.S. chip designers are now “fabless,” meaning that they send their designs to be tested and produced by foreign merchant fabs. Large corporations such as Qualcomm, AMD, and Apple easily access these facilities for their million-chip runs, but startups that require small volume runs and companies designing specialized chips often struggle to gain access to production facilities. China China undoubtedly will become an increasingly large player in the global microelectronics industry. The Chinese government employs national technology strategies, state spending, intellectual property theft and forced technology transfer, and integration of civilian and military research and development efforts to support its ambitious microelectronics goals. Chinese firms also received the single largest share of global venture financing for microelectronics in 2019, with 40% of investment (at higher average dollar amounts) compared to 25% to U.S. companies and 18% to the U.K. and Europe.6 While previous state-led efforts to develop Chinese microelectronics capacity were largely unsuccessful, China is now pursuing the path taken by Japan and Korea, using the development of memory as a stepping stone to create more sophisticated microelectronics products. Market demand will reinforce the state’s push to reach self-sufficiency in production by 2025. China buys 53% of the world’s chips and relies on foreign countries for approximately 84% of its internal 3Gartner: Market Share: Semiconductors by End Market, Worldwide, 2019. Published 6 April 2020. By Andrew Norwood, Jon Erensen, George Brocklehurst, Ben Lee, Alan Priestley, Bill Ray, Roger Sheng, Amy Teng, Joseph Unsworth, Masatsune Yamaji, Juhi Gupta, Anushree Verma, Rajeev Rajput, Kanishka Chauhan, Nolan Reilly 4 Gartner: Forecast Analysis: Semiconductor Capital Spending and Manufacturing Equipment, Worldwide, Published 14 October 2020. By Gaurav Gupta (VP Analyst) and Bob Johnson (VP Analyst). 5 Fitch, Asa; Santiago, Luis. “Why Fewer Chips Say “Made in the U.S.A.”, Wall Street Journal, 3 November 2020. 6 In-Q-Tel analysis January 2018 using Pitchbook data © 2021 In-Q-Tel, Inc. Page | 2 IQT Insights: The National Microelectronics Challenge semiconductor consumption. 7 Although China’s other domestic manufacturing facilities are less advanced, China’s Semiconductor Manufacturing International Corporation is working toward cutting-edge (7 nanometer node) technology, nipping at the heels of global industry leaders Taiwan Semiconductor Manufacturing Company (TSMC) and Samsung. In considering the future evolution of the microelectronics industry, it is reasonable to assume that China will continue to improve its technological capabilities, ultimately achieving 5 or 3 nanometer technology. Additionally, the United States should assume that some foreign governments, particularly China, will subsidize national firms in order to hold market share in this critical industry. Both factors highlight the importance of continued U.S. technology innovation. Technology Trends The microelectronics industry is on the verge of significant change. For decades, it relied on shrinking transistor sizes to squeeze more integrated circuits onto a silicon chip, doubling performance every two years while reducing costs. This phenomenon, knowns as Moore’s Law, enabled the shift from minicomputers to PCs to smart phones and now the cloud. The process began to slow over a decade ago and experts predict that transistor scaling will reach its final, smallest capabilities at the 3 nanometer node around 2022-23. Although additional nodes at 2 nm and 1.4 nm might be possible, there is a great deal of uncertainty around whether these nodes would ever become viable. Impending physical limitations on the size of a transistor have begun to reshape microelectronics manufacturing. Companies still using CMOS, the predominate technology